In our experience, the most common issue for a business owner who doesn’t understand their numbers is a problematic cash flow. For example, if a business is making profit, why is it sometimes a struggle to pay the BAS on time?
The answers to this and other key questions are found in your balance sheet. Understanding the numbers means knowing how to read your balance sheet so you can, among other things, maintain a healthy cash flow.
If you know how to use it properly, your balance sheet can help you avoid THREE common cash flow problems.
Your balance sheet summarises your assets and liabilities – what you own and what you owe. It provides a ‘snapshot’ of your business’ financial position at a given point in time. And, in terms of the business operation, comparing successive balance sheets will tell the story about the amount of cash you’ve collected through the movement of your debtors, inventory and creditors.
1. Unable to fund your growth?
When your business is growing, you need sufficient cash to cover growth-related expenses which may include wages for new staff and the cost of extra stock. Your balance sheet will tell you at a glance whether you have the cash available to meet these expenses.
For example, while your analysis may indicate that you have plenty of net assets to cover your working capital needs, you’ll need to take a closer look to find out whether or not those net assets are available to you.
If you’re profitable and have net assets but are short of working capital, the solution will lie in the way the business is financed, or inventory management, or debtor and creditor management or a combination of all three.
2. Is inventory a problem?
Whether or not your business is paid in cash at point of sale or on invoice terms, it’s a healthy inflow of cash that allows you to meet your expenses.
If you own a hotel, this means being able to pay for the product when it’s delivered (before you sell it) and if you provide a service, it means being able to pay your team (before the invoices for their work are paid). It’s important to strategically manage your inventory – whether it’s in the form of physical stock or the value of services provided before they’re invoiced.
3. All your cash with debtors or creditors?
Even with a record number of sales for the month, you’ll have a serious cash flow problem if the income you’re owed from those sales remains unpaid by your debtors. Equally important, negotiating favourable terms with your suppliers (creditors) will mean there’ll be more available cash in your business.
Your balance sheet tells you what you own and what you owe. If what you owe in the short-term is greater than the cash you’re collecting, you urgently need to improve your cash flow management system. When your debtor management and your creditor management are integrated, the funds flowing in and out will provide the cash flow you need to run the business.
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